The Basics of Transportation Finance

There is widespread agreement that the United States needs better transportation infrastructure.

Tools for paying for infrastructure include transportation financing and public-private partnerships.

Most infrastructure spending occurs on the state level, and therefore it is generally the states that engage in public-private partnerships for infrastructure projects.

America’s Transportation Infrastructure Needs

Last year, Congress responded to concerns about America’s transportation infrastructure with the FAST Act, a five-year, $305 billion surface transportation funding law. Although recent studies have shown that the condition of many of the country’s roads and bridges has at least temporarily improved, many observers say that more needs to be done. McKinsey has estimated that the United States must increase annual infrastructure investment by one percentage point of GDP.

“You can’t be competitive if you don’t have an infrastructure that allows you to be competitive.” – Sen. Roy Blunt,09-24-2013

Funding Transportation Infrastructure

Historically, the federal government has funded surface transportation through direct spending. Most infrastructure spending occurs on the state and local level. Much of the federal share of transportation funding is implemented through grants to states and localities. These federally funded projects have been paid for by the federal motor fuels excise tax, which is collected into the Highway Trust Fund.

Recently, receipts from the tax have been insufficient to fund the Highway Trust Fund, and Congress looked elsewhere for funding. At current gas tax rates, this revenue shortfall is expected to persist. There have been several proposals to fix the Highway Trust Fund beyond simply raising tax rates, including expanded use of tolls and implementing a mileage-based user charge. The FAST Act authorized grants to states to test new user fees.

Financing Transportation Infrastructure

Transportation financing is another way for the federal government to invest in infrastructure, generally involving less direct spending. In contrast with transportation funding, a financing transaction involves making a down payment on the project and going to the capital markets for the rest of the needed funds. This structure is somewhat like purchasing a business partially with debt and then using the business revenue to pay off the debt. With financing, the federal government supports transportation projects by getting states, localities, and other entities access to low-cost capital, but it does not fully fund those projects.

This support can take the form of loans, loan guarantees, and lines of credit, and the federal government bears the risk should the borrower default. Therefore, to be eligible, the transportation project being financed generally must have some sort of revenue stream attached so that the loan can be paid back. Financing structures can be appropriate for any infrastructure project with a revenue stream, including transit and water systems. Financing, however, may not be appropriate for all transportation projects, and rural states have had trouble implementing and getting access to infrastructure finance.

Infrastructure Banks

One financing program often mentioned is a federal “infrastructure bank” that would provide loans and loan guarantees to government and private-sector entities for infrastructure projects. A number of states already have their own infrastructure banks for financing their infrastructure improvements.

Although not specifically an infrastructure bank, the Build America Bureau within the Department of Transportation has some characteristics of a bank. The bureau offers direct loans, loan guarantees, and lines of credit to eligible borrowers under the Transportation Infrastructure Finance and Innovation Act. These borrowers include state and local governments, private-entities, and quasi-governmental authorities. The bureau also offers the Railroad Rehabilitation and Improvement Financing program for financing rail improvements.

There have been a number of proposals for actual federal infrastructure banks, separate from the Build America Bureau. Most would take the form of a wholly owned government corporation that, with appropriated funds, would make and guarantee loans for infrastructure projects. Some conservative scholars have questioned whether a new structure is necessary. They point to TIFIA, which has stringent underwriting standards and is generally considered a successful program. One Heritage Foundation scholar has cautioned that a new infrastructure bank without strict standards could be “little more than a backdoor mechanism for the deficit/taxpayer financing of transportation projects.”

Public-Private Partnerships

Financed infrastructure projects often take the form of public-private partnerships. Public-private partnerships are financing arrangements in which private sector businesses work with government entities on building or operating infrastructure projects. These projects can be financed by the private sector or via government sources, including infrastructure banks.

In general, the United States lags behind other developed countries like Canada, Australia, and the U.K. in using public-private partnerships to finance transportation infrastructure projects. According to the American Enterprise Institute, “Canada has attracted about six times the amount of private investment in infrastructure in recent decades via PPPs per dollar of gross domestic product, relative to the United States.” CBO estimates that the value of privately financed roads comprises “a little less than 1 percent of the approximately $4 trillion that all levels of government spent on highways over the period.” Some experts note that the comparative lack of public-private partnership projects in the United States is due to the scarcity of appropriate projects, rather than a lack of investor appetite or availability of financing.

While these partnerships can help states and localities access capital for infrastructure projects, they generally require a revenue stream. The revenue streams usually come in the form of user fees, such as tolls. There are options for other payment mechanisms, however, such as “availability payments,” which are made by the government to the operator of the infrastructure in exchange for meeting certain benchmarks. As of 2014, most new public-private partnership projects were set to use an availability payment mechanism rather than user fees.

The vast majority of the public-private partnership activity occurs on the state level. The federal government has helped finance public-private partnerships through the TIFIA program and by allowing states and localities to issue tax-free Private Activity Bonds. However, the federal government impedes potential revenue streams by limiting the ability of states to impose tolls on their sections of the Interstate highway system. The FAST Act somewhat relaxed the restrictions by allowing government entities to toll single-occupant vehicles in HOV lanes and modifying a pilot program for states to add tolls to Interstates to pay for improvements.

Even strong supporters of increasing the use of public-private partnerships for infrastructure financing concede that these partnerships are not a panacea. Partnerships that rely on user fees for their revenue source are generally only realistic if the project has a lot of users willing to pay the fee. Therefore, transportation projects in rural areas would likely need some sort of government funding stream, like availability payments. Additionally, as with all transportation projects, there is always the risk that governments will negotiate unfavorable contracts with private operators.

Completed Highway Projects That Used Public-Private Partnerships With Private Financing